By Edward Tanenbaum, Esq. Alston & Bird LLP, New York, NY
In anticipation of some possible changes coming down the pike in the Obama administration, a number of foreign companies have announced plans to move their tax headquarters from Bermuda to either Switzerland or Ireland, as reported in a number of tax journals.
For example, in its Pre-14A filing with the Securities and Exchange Commission on December 10, 2008, Foster Wheeler Ltd., a company in the engineering, power, and construction business, indicated that it would relocate its tax domicile from Bermuda to Switzerland. It would accomplish this by establishing a Swiss AG as a subsidiary of the Bermuda parent and, in the context of what is projected to be a qualifying F reorganization, the Bermuda parent shareholders would exchange their Bermuda shares for Swiss shares, all shares of the Bermuda corporation would be cancelled, and the Bermuda corporation would issue stock to the Swiss corporation, which would then own the Bermuda corporation. A check-the-box election would subsequently be made on the Bermuda entity.
So, too, in its S-4 filed with the SEC on December 10, 2008, Tyco International Ltd. announced a “change of domicile” in the form of a discontinuance from Bermuda and a continuance in Switzerland. And on December 23, 2008, Covidien Ltd. sought shareholder approval in its 8-K filing for a share exchange pursuant to which Covidien would become a subsidiary of Covidien Plc, an Irish company, with the former shareholders of the Bermuda company becoming shareholders of the Irish company.
Further, Weatherford International Ltd. would propose to convert from a Bermuda corporation to a Swiss corporation whereby each shareholder of the Bermuda corporation would transfer his/her shares to the Swiss corporation in exchange for shares of the Swiss corporation. In this manner, the Bermuda corporation would become a wholly-owned subsidiary of the Swiss corporation.
In all cases, the shares of the new corporation would continue to be listed on the same exchange as the old corporation and the same business would continue to be conducted by the new corporation.
Sounds like another corporate expatriation transaction although, as each of the filings indicates, there should not be much U.S. tax (or for that matter, foreign tax) incident to the conversion or following the conversion except in limited circumstances.
For example, all of the filings indicate that the transaction should generally be tax-free to the corporations which are parties to the reorganization as well as to the shareholders (except for cash, if any, received in lieu of fractional shares). All four of the corporations assume away, and do not opine on the tax consequences to, shareholders who have held 10% of the voting power at any time in the past five years or immediately thereafter (presumably so as to avoid addressing the unique tax consequences to certain U.S. shareholders under §1248) and three of the corporations also assume away shareholders who immediately before the transaction actually or constructively owned 5% (by vote or value) of the Bermuda corporations and assume away holders of the Swiss corporation who immediately after the transaction actually or constructively own 5% of the vote or value of the shares of the corporation. This, presumably, is to avoid addressing the gain recognition agreement requirements of Regs. §1.367(a)-3(b) as they would be applicable to these 5% or more U.S. shareholders. The Weatherford filing does specifically address this requirement.
Speaking of corporate expatriation transactions, this time around at least §7874 should be inapplicable. That's because Regs. §1.7874-2T(b)(2) explicitly provides that the acquisition by a foreign corporation of stock of another foreign corporation is not considered an indirect acquisition by the acquiring foreign corporation of the properties held directly or indirectly by a domestic corporation which is owned by the acquired foreign corporation.
And for foreign shareholders, there would usually be no gain recognition as long as the income is not effectively connected with a U.S. trade or business and as long as a nonresident alien individual is not present in the United States for 183 days or more in the year. The other notable exception to nonrecognition of gain by foreign shareholders, i.e., FIRPTA, would also not apply since the gain is realized on the disposition of shares of a foreign corporation (and not those of a U.S. Real Property Holding Corporation, as defined) and, therefore, exempt from FIRPTA tax.
On a going-forward basis, it is possible that dividends received by U.S. individuals could qualify for the 15% rate (at least through 2010) if they are received from a “qualified foreign corporation,” provided that the foreign corporation qualifies for benefits under the relevant treaty with the United States (which, as public companies, they are likely to) and provided that the foreign corporation is not a PFIC (which all indicate in their filings is hopefully not the case).
So, why are these companies all changing their tax domiciles in the first place? Well, they see a potential rough road ahead of them, legislatively or otherwise, if they continue to be domiciled in so-called tax haven jurisdictions.
Consider a number of bills pending in Congress. For example, H.R. 3160 was introduced in 2007 by Rep. Doggett to amend §894 of the Code. The bill would require U.S. corporations making deductible payments to certain related foreign affiliates to withhold tax at the higher of the withholding tax rate applicable to payments made directly to the foreign parent or the withholding tax rate otherwise applicable to payments made to the foreign affiliate. The purpose of the bill is to prevent foreign multinationals from enabling their U.S. affiliates to make deductible payments at reduced withholding rates by channeling the payments to foreign affiliates located in favorable treaty countries.
Needless to say, this provision raised a lot of eyebrows with interested parties claiming (I think correctly) that this provision is not appropriately coordinated with current U.S. treaty policy, that it abrogates treaty provisions, that the limitation on benefits (LOB) provisions of treaties are designed to deal with exactly this situation, etc. Recognizing the problem, a more refined version appeared in Rangel's bill, H.R. 3970. While similar to Doggett's provision, it provides that any withholding tax imposed on deductible payments by a related party may not be reduced under a treaty unless such withholding tax would be reduced under a treaty if the payment were made directly to the foreign parent corporation. So, as long as a treaty exists with the foreign parent which would reduce the withholding tax, the withholding tax on deductible payments to a foreign affiliate would still be able to be reduced without regard to a comparison of rates.
Then there is a bill introduced in 2007 by Senator Levin to bar the award of certain government contracts to U.S. companies that have established foreign operations in an inversion-type transaction. And, finally, S. 681, introduced in early 2007 by Senators Levin, Coleman, and Obama, entitled the “Stop Tax Haven Abuse Act” (and reintroduced March 9, 2009, in a more expanded form by Sen. Levin in the Senate and by Rep. Doggett in the House), is designed to restrict the use of offshore tax havens to inappropriately avoid federal taxation and could certainly have ancillary adverse tax consequences for those operating within these jurisdictions. Interestingly, Bermuda as well as Switzerland (although not Ireland) are two countries cited in this initial list of offshore tax havens.
All four of the above corporations contemplating changes in domicile refer to a number of factors favoring the moves, including moves to centrally-located jurisdictions with well-developed and stable tax regimes, economic and political stability, and sophisticated financial and commercial infrastructures, all of which are projected to add to the competitiveness of their companies and their competitive worldwide effective tax rates. Tyco, however, is quite open in its proxy literature about the potential future hazards of the pending legislation, including possible new proposals, especially under an Obama administration. For example, it specifically refers to pending legislation which could adversely affect treaty withholding rates as well as legislation that could affect its ability to enter into contracts with governmental authorities.
It's also interesting that each of these companies takes great pains to establish the substance of their operations in Switzerland and Ireland, respectively.
For example, Foster Wheeler indicates that it will move its principal executive officers and management to Switzerland, noting that it already has significant operations in Switzerland. Tyco also refers to its well-established presence in Switzerland and the number of employees (with key corporate functions) that it has there. Weatherford indicates that it will relocate its principal executive officers to, and establish its corporate headquarters in, Switzerland. Covidien promises the same with respect to Ireland.
These proposed actions seemingly bode well for the companies going forward. If §7874 (or another variation on the theme) were to apply, it would certainly be helpful to be able to demonstrate substantial business activities in the new jurisdiction, including senior corporate management functions. In addition, it probably did not go unnoticed that, in the future, more treaties will likely build in “substantial presence” requirements as a part of the publicly-traded test in the LOB provisions of tax treaties.
For example, the U.S.-Netherlands treaty (and the U.S. Model) requires under certain circumstances satisfaction of a “substantial presence” test in the country of residence, i.e., the company's primary place of management and control must be located in that country. This means that its executive officers and senior management employees who exercise the day-to-day responsibility for the strategic, financial, and operational policy decision-making for the company must be located primarily in that jurisdiction.
It is also not a bad idea to consider moving or establishing management and control of the corporation outside of the United States in light of the 2005 President's Advisory Panel report and the 2005 Joint Committee on Taxation report regarding proposals which provide that foreign corporations would be treated for tax purposes as domestic corporations (and taxed as regular U.S. corporations would be) if their primary place of management and control is in the United States. Indeed, the reintroduced “Stop Tax Haven Abuse Act” adds a new provision to the same effect.
All in all, therefore, it would appear that each of these four corporations is building a case for the future with very little U.S. or foreign tax pain in the implementation. There certainly is nothing wrong with that. In fact, it's smart. The only question is the ability to predict the future, including what new legislation will be proposed and, more importantly, what President Obama will have to say about all of this. Whether all of the prophylactic measures and steps will work to these corporations' benefit remains to be seen.
This commentary also will appear in the April 2009 issue of the Tax Management International Journal. For more information, in the Tax Management Portfolios, see Streng, 700 T.M., Choice of Entity, and Davis, 919 T.M., Outbound Transfers Under Section 367(a), and in Tax Practice Series, see ¶7130, U.S. Persons -- Foreign Activities.
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